The Cost of Demonetization: Rs. 34,000 cr. in Lower RBI Payout, Likely from Interest on Excess Cash


The RBI will pay Rs. 306.59 billion (Rs. 30,659 cr.) to the government as a “surplus”. Versus Rs. 65,000 cr. in the previous years. Oh my goodness, say the news sources, this is horrible! What happened to all that demonetization dividend RBI was supposed to get?

The answer is: There is no such dividend.

We had said it in December itself. (Read that post) That there is unlikely to be any sort of dividend by people not returning notes. If there was, we would know by now how many notes were returned. The fact that we don’t know how many notes were returned means enough were returned to not need a dividend.

But here’s how the surplus was distributed in previous years:

RBI Bal SheetAs you can see, the RBI has been earning a ton of money in the last few years. Income has moved from Rs. 531 billion (53,000 cr.) to Rs. 808 billion from 2012 to 2016. Part of this income used to be transferred into two funds – a “Contingency Fund” and an “Asset Development Fund”. (these are used to pay for either for bailout of banks in emergencies, or for building stuff like new note printing facilities)

In the last three years, the RBI has not been moving money to those funds. That increases the payouts. If the RBI needs money, its just expensed out or a “provision” is created, which is a better way to classify an expense that’s coming soon.

This time, have they gone back to doing stuff from funds? The answer will be evident only when they upload their annual report. But till then, we’re going to have to guess.

Most of the RBI income comes from the interest they get from domestic sources:Income of RBITheir income will continue from some sources; they have even more dollars than they used to, and they have a lot of govt bonds even now: About 7.3 lakh crores worth of bonds. That, even at 7% on average, would yield them about 49,000 cr.

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But the part they will lose on is the “Net interest on LAF operations”. This is not about a bunch of RBI bankers cracking jokes, even if it sounds like that.

LAF is the Liquidity Adjustment Facility, which is the daily interest either charged by RBI to banks on money banks borrow from it (“Repo”), or the interest RBI pays when banks store extra cash with it (“reverse repo”).

After Demonetization, Reverse Repo went up way high. Banks had over 300,000 cr. extra that they deposited with the RBI. Even today, there’s 276,000 cr. parked overnight with the RBI!

For this last year (November 2016 to Jun 2017), or around 8 months, the RBI would have paid out 6% in reverse repo for an average daily balance of around 300,000 cr. which is around Rs. 18,000 cr. in interest, or Rs. 180 billion.

That would substantially reduce the income of the RBI, from the Rs. 80,000 cr. (800 billion) they got last year.

Plus, they have costs. Printing of rupees in FY 16 cost them Rs. 3400 cr. But in FY 17 you can bet they printed a lot more (Rs. 2000 and Rs. 500 notes were completely changed). Costs would have been up about 4x to 5x, to about Rs. 15,000 cr. or so.

So if income fell by Rs. 18,000 cr. and costs went up by Rs. 12,000 cr. then we have a total hit of Rs. 30,000 cr. (300 billion).

And that explains why the RBI paid out lesser. We’ll know in the final annual report, but it’s the “cost” of demonetization, in a way.

The Government Budgeted For Higher?

In FY 17, the government had got about 76,000 cr. of dividends from RBI + Public banks. Of which Rs. 65,000 cr. was just the RBI.

In FY 18, the budget showed that they expected a total of Rs. 74,000 cr. from RBI+Public banks.

Banks aren’t doing that well. So let’s not expect much as dividends from them – at max, they’ll match last year and give out Rs. 10,000 cr. in total.

RBI is only Rs. 30,000 cr. now. So in total, the government budgeted to get Rs. 74,000 cr. and will get only Rs. 40,000 cr.

That’s a shortage of Rs. 34,000 cr. that they will need to make up.

(Let’s hope they don’t add another tax. Demonetization cess or something. But it’s likely to be covered by just the extra tax they will make from a higher GST, and perhaps from the tax recoveries they have).

Our View: Demonetization has a cost, and that’s coming to the fore now. We have a real number now: Rs. 34,000 cr. in reduced dividends from the RBI + banks. Let’s hope the income tax and indirect tax departments earn enough to make it up.


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